The near-universal character of this month's global financial markets plunge came as a surprise to many people. After persistent growth in recent years in countries such as India and China, Goldman Sachs, Merrill Lynch and JPMorgan all had assured investors that the world no longer depended upon the U.S. economy.
"Who Needs The U.S.?" scoffed Time magazine last year.
That once fashionable belief in global "decoupling," however, has been deeply shaken, if not obliterated, by Wall Street's recent upheaval and a cascade of downbeat economic reports suggesting the $14 trillion American economy may be starting to shrink. "What decoupling?" says Nariman Behravesh, chief economist of the consulting firm Global Insight. "You hear a lot of talk of recoupling. No one's talking of decoupling."
Around the world, government ministers, corporate executives, workers and investors all are nervously reassessing their vulnerability to this made-in-the-USA crisis. Chinese textile mills sold almost $1 billion less to U.S. customers in November than they did in October, in part because the falling dollar is making imported goods more expensive. European banks executed a "sharp tightening" in lending, especially to businesses, due to potential losses on complex mortgage-backed securities, according to a European Central Bank survey. And Argentina's central bank chief says all of Latin America anticipates a hit to economic growth if the U.S. outlook darkens further.
"It affects everyone. The whole world is watching the ups and downs of the U.S. economy," says Le Cong Phung, Vietnam's ambassador to the United States.
The health of foreign economies likewise is increasingly central to the prospects of the largest U.S. companies. With the U.S. economy stalling, iconic brands such as McDonald's mcd and IBM ibm recently reported strong earnings that derived largely from foreign markets. Heavy-equipment maker Caterpillar cat last week reported that its sales in the fourth quarter fell 11% in North America while rising 36% in Asia, 34% in Europe and 17% in Latin America.
"Inside the U.S. economy, it was a weak quarter for many of the industries we serve. Outside the United States, almost everything was up," Mike Dewalt, Caterpillar's director of investor relations, said on a conference call Friday.
Almost $7 of every $10 in sales that Caterpillar records comes from outside the USA. The Peoria, Ill.,-based manufacturer is banking on strong foreign growth to compensate for an "anemic" U.S. rate, and to produce 2008 sales 5% to 10% above last year's $45 billion. But the expected bounty depends on Europe growing at an annual rate of 2.3%; most other forecasters, including the International Monetary Fund, have lowered their estimates to around 1.6%.
The outlook darkens
Taking account of the worsening financial turmoil, the IMF on Tuesday lowered its global growth forecast. The world economy will slow this year to a 4.1% annual growth rate, down from 4.9% in 2007, and 0.3 percentage points below its original forecast, the IMF said. Much of the blame for the global deceleration lies with the crisis in subprime mortgages, those for borrowers with poor or non-existent credit histories, that began in the USA. "The financial market strains originating in the U.S. subprime sector … have intensified," the IMF said.
Some remain confident that the collateral damage from the U.S. financial crisis can be contained. South Korean steelmaker Posco and French central bank chief Christian Noyer are among those endorsing the notion that their economies are generating enough homegrown growth to escape the worst fallout from a shrinking U.S. economy.
But the USA is transmitting economic weakness to the rest of the world through two channels. A slowing economy here has a direct impact on other countries as U.S. consumers and businesses reduce purchases from foreign suppliers. At the same time, ever more intricate financial linkages expose foreign financial institutions to around $600 billion worth of complex asset-backed securities, which are now difficult to value in a market where almost no one wants to buy them. That's leading to major losses on global bank balance sheets, which spills over into sluggish lending.
"We have experienced a major financial shock. … We should expect a prolonged period of discomfort for individual banks and the financial system as a whole," Sir John Gieve, deputy governor of the Bank of England, said in a speech earlier this month.
As the U.S. economy struggles, it's casting an uneven shadow on the rest of the world. Neighbors Canada and Mexico, which send about 80% of their exports to the USA, are tightly yoked to Uncle Sam and will be among the first to feel the chill. The Bank of Canada earlier this month lowered its 2008 economic growth forecast to 1.8%. Europe, too, is slowing, amid indications that U.S.-style housing bubbles are bursting in countries such as Spain, Ireland, Portugal and the United Kingdom.
"As things in the U.S. blow up, financial institutions in Europe are put under pressure, and that triggers things there to blow up," says economist Tim Lee of Pi Economics in Stamford, Conn.
Emerging bright spots
So far, the so-called emerging markets stand out as a surprising economic haven. Policy reforms introduced since the 1997 Asian financial crisis, years of strong economic performance and huge stockpiles of foreign-exchange reserves are insulating countries such as China and Russia from the initial rounds of U.S.-spawned weakness.
Several key emerging economies sit on swollen stockpiles of hard-currency reserves. Their governments have ample cash to goose their domestic economies if the outlook for global growth deteriorates beyond expectations. China alone boasts a $1.5 trillion reserve, the consequence of the USA's ballooning trade deficit with Beijing.
"The size of emerging markets has increased noticeably in recent years. They have reached a size sufficient to buffer some of the cyclical movements in developed economies," says Gene Huang, chief economist of FedExfdx.
In China, for example, the economy now is roughly six times its size in 1990. Living standards, especially in cities, have risen accordingly and provided millions of young Chinese with conveniences and luxuries that their parents could have scarcely imagined.
In 2007, the economy grew at an annual rate of 11.4%, the fifth-consecutive year of double-digit increases. China's economy is steaming along so quickly that policymakers have been trying to cool it by raising interest rates and mandating larger down payments for property purchases. A little slowing, thanks to the U.S. downturn, will be welcomed.
Turkey, another prominent emerging market that's enjoyed several years of robust development, also seems likely to slow somewhat from last year's 5% growth rate. Ferit Sahenk, chairman of Dogus Group, one of the country's largest family-owned conglomerates, worries that the U.S. crisis will depress the European economy, a key export market. But he says Turkey's strong fundamentals and its attractiveness to foreign direct investment will help the country ride out the crisis.
"Everybody is talking about whether the U.S. is going into recession. … If the U.S. sneezes, people are apt to get some sort of a cold," says Sahenk, whose business partners include General Electric ge and Volkswagen.
Still the biggest
One measure of the maturation of the emerging world is the near-doubling since 2000 in consumer expenditures in the so-called Bric countries: Brazil, Russia, India and China. In 2006, the most recent data available, consumers in those four nations spent $2.6 trillion, up from $1.4 trillion in 2000.
That's a sizable chunk of spending, but it pales alongside the free-spending ways of much wealthier American shoppers. In 2006, U.S. consumers spent almost $9.3 trillion, according to Bank of America bac. If a deep U.S. recession causes consumers here to retrench, developing world consumers won't be able to pick up the slack.
"The near-term outlook for global equities remains closely tied to the health of the U.S. economy," Joseph Quinlan, Bank of America's chief market strategist, wrote to clients last week.
The IMF, in fact, says in Tuesday's updated forecast that the "main risk" to the global economy is that financial market turmoil will ultimately weaken the emerging markets that have held up well to date. And in an e-mail interview, Martin Redrado, Argentina's central bank governor, frets that "a further worsening of the U.S. economy will have an effect on financing conditions for the region and thus for its prospects for continued economic growth."
While its financial footprint may have shrunk a bit in recent years relative to the fast-rising emerging economies, the USA remains the single biggest player in global markets. U.S.-listed stocks account for 44% of world equity value, according to Russell Investments. U.S. Treasury securities make up almost half of total government bond values worldwide, says Stephen Jen, chief currency economist at Morgan Stanley in London. And a recent study by Russell Investments concluded that since 2001, stock markets in the USA and the developing world more often than not moved in lockstep.
The bottom line is that problems in U.S. markets are felt quickly elsewhere. When investors here suffer losses and need to raise cash, they often do it by selling shares in Asia, Latin America or Europe.
"In terms of financial markets," says Jen, "the U.S. is still the benchmark for the rest of the world."